DrKW criticises CLS for not introducing central clearing

Continuous-linked settlement (CLS), the global system to reduce foreign exchange transaction risk, should have been set up to provide banks with a centralised clearing facility, rather than just to eliminate ‘Herstatt risk’, according to a senior banker at Dresdner Kleinwort Wasserstein (DrKW), the investment banking arm of Dresdner Bank.

“They [CLS management] have not fully concluded what they need to, which is to bring foreign exchange into a fully cleared environment,” said Alex Wilkinson, global head of DrKW’s listed products group, at a briefing today.

Unlike other markets, such as equities, there is no central clearing facility for foreign exchange trades. Central clearing organisations guarantee trades by acting as the counterparty on both sides of a transaction. As they are typically highly rated, they lower the average credit risk associated with a trade. They also allow for anonymous trading regardless of how well capitalised a market participant is.

CLS is designed to settle trades on a net-funded basis over a period of time when country-specific real-time global settlement systems overlap.

Wilkinson said that when regulators pushed the world’s biggest banks to come up with a system to get rid of Herstatt risk – the risk that time-zone differences could lead to one party to a trade defaulting before it has paid out on its side of a contract – the banks involved “all got on the bandwagon”, without looking at what they would get for their money.

“The central banks said we need to eradicate Herstatt risk without realising that the best way to do it is through a central clearing environment, with all its add-on benefits,” added Wilkinson.

These benefits, he said, include increased liquidity and reduced capital requirements.

Only users who have a paid subscription or are part of a corporate subscription are able to print or copy content.

To access these options, along with all other subscription benefits, please contact info@risk.net or view our subscription options here: http://subscriptions.risk.net/subscribe

You are currently unable to copy this content. Please contact info@risk.net to find out more.

Most read articles loading...

You need to sign in to use this feature. If you don’t have a Risk.net account, please register for a trial.

Sign in
You are currently on corporate access.

To use this feature you will need an individual account. If you have one already please sign in.

Sign in.

Alternatively you can request an individual account here